Mativ Holdings Inc (MATV) 2010 Q3 法說會逐字稿

Welcome to SWM's third quarter earnings conference call. Hosting the call today from SWM is Mr. Frederic Villoutreix, Chief Executive Officer. He is joined by Pete Thompson, EVP, Finance and Strategy and Scott Humphrey, Corporate Treasury Director.

Today's call is being recorded and will be available for replay beginning at noon Eastern daylight time. The dial-in number is 800-642-1687 and pin number, 17067448. At this time all participants have been placed in a listen-only mode and the floor will be open for questions following the presentation.

(Operator Instructions)

It is now my pleasure to turn the floor over to Mr. Humphrey. Sir, you may begin.

Thank you, Wes. Good morning. I am Scott Humphrey, Corporate Treasury Director at SWM. Thank you for joining us to discuss SWM's third quarter 2010 earnings results. Frederic will discuss the key factors impacting our business. Pete will then provide additional details related to our third quarter results and outlook. We will then take your questions.

Before we begin I would like to remind you that the comments included in today's conference call constitute forward-looking statements. Actual results may differ materially from the results suggested by these comments for a number of reasons which are discussed in more detail in the Company's Securities and Exchange Commission filings, including our Annual Report on Form 10-K. Certain financial measures discussed during this call exclude restructuring expenses and are therefore non-GAAP financial measures. At this time I will turn the floor over to Frederic.

Thank you, Scott, and good morning, everyone. On today's call I will share some high level comments about our third quarter performance. I will also comment on the working agenda for the close of 2010 and our priorities as we prepare to move into 2011, including updates on the progress of our expansion plans in Europe and Asia.

Due to current litigation, our comments about LIP pattern actions will be limited except to say the suit against our competitors alleging LIP patent infringement in the US is proceeding through the usual legal process. Pete will then take you through a more detailed review of our financial results and guidance.

Slide four summarizes our financial results for the quarter and year-to-date. As you can see from the press release issued yesterday, third quarter results reflect a relatively stable business environment. Adjusted net income from continuing operations increased versus the prior year quarter on flat revenue.

EPS declined year-over-year, primarily due to the dilution from the November 2009 secondary offering of common stock. We initiated reporting a [metal sent] operation as a discontinued operation effective with the third quarter, including retrospective presentation of all prior periods.

Sales and production volume were somewhat unfavorable during the third quarter, reflecting a lower rate of shipments of reconstituted tobacco leaf or RTL caused by timing of customer orders. Pulp prices and yield currency strength relative to the dollar both continued to be unfavorable for the quarter and negatively impacted our earnings. Both pulp prices and currency began to moderate late in the third quarter and are expected to improve slightly for the fourth quarter.

We experienced an accelerated rate of cost savings during the quarter concerning the solid trend of the previous two quarters. In sum, the third quarter adjusted earnings per share of $1.17 and continued strong cash generation are reflective of SWM's underlying business fundamentals remaining strong, especially given the temporary RTL sales and production volume weakness.

I will next address key operational developments that impacted third quarter results and Pete will further review the financial results in a moment. Moving to slide five, despite the persistence of high pulp prices and unfavorable foreign currency exchange rate impacts, we generated improved financial and operational performance versus the second quarter. We continue to make good progress exhibiting against our business strategy, especially concerning initiatives to grow with our high value LIP cigarette paper and RTL franchises.

In RTL we realized an 8% increase in sales volumes relative to the lower second quarter 2010 shipment rate, but still experienced volumes below the third quarter 2009 level as customers complete their inventory reduction efforts. The decline in RTL sales and production volume impacted third quarter results, but to a lesser extent than during the second quarter. We still expect to return to normal shipment patterns during the fourth quarter and full year revenue growth annual profitability to be roughly in line with our original expectations for 2010, including mid single-digit revenue growth.

Moving to LIP cigarette paper, we remain pleased with the solid growth for this product segment which posted a 71% volume gain over prior year quarter. Our Chinese paper joint venture continues to perform well. Our operational excellence program continues to gain traction and contributed to a total benefit of $8.8 million in cost savings and lower manufacturing cost this quarter, including the benefits of restructuring actions.

We fully resolved the one-off operational issue at our St. Girons mill in France that caused us to shut down the pulp mill for six weeks during the early summer, while resourcing flax pulp at a much higher price point on the open market. We also made good progress in addressing cost issues from resourcing LIP-based paper from our Spotswood, New Jersey mill to the PDM facility in France. Finally, I am pleased to call attention to our new SWM Company brand and logo which signifies our mission to increasingly bring to bear our global resources for the benefit of our customers and shareholders.

Turning to slide six, we continue to work hard to advance all four of our growth initiatives. Final LIP test standards are still expected to be published at the European Union level within a few weeks, with country by country adoption and enforcement, and therefore LIP cigarette paper demand ramping across the EU progressively during 2011 to full implementation expected no later than the beginning of 2012.

As a result, we continue to work to establish our EU LIP manufacturing footprint and to negotiate supply terms with customers. We still anticipate announcing further customer agreements before the end of 2010. In addition to the extensive construction activity for our new RTL facility in the Philippines, we are advancing efforts to develop new sources of customer demand for RTL in Asia.

Now a word on our restructuring program on slide seven -- the complete closure of the Malaucene facility progressed during the third quarter with dismissal of one half of the protected employees, but work continues to fully resolve remaining labor claims. This situation is expected to result in more severance related restructuring expenses than originally planned, as well as additional restructuring expenses associated with potential environmental remediation actions and lower expected recoveries from asset sales. Additional accruals were booked during the quarter to reflect those potential obligations.

We are moving forward with the restructuring activity of our Brittany, France paper mill, PDM, and expect to achieve a planned headcount reduction and associated savings by yearend. These restructuring actions, coupled with ongoing operational excellence are yielding significant year-over-year cost improvements. Slide eight summarizes our key business drivers for 2010. Overall we continue to make good progress on our agenda and are pleased with the improved quality of execution during the third quarter.

Our teams continue to work hard to carry out our plans with an acute focus to sustain and further improve the quality of our execution as we head into the critical 2011 period, whether it is advancing our expansion plans in Asia for RTL products or in Europe with LIP, securing customer agreements ahead of LIP legislation taking effect in Europe next year, delivering earnings growth with our high value products and at our Chinese paper joint venture as it further strengthens its position on the premium cigarette market, taking advantage of improving pulp price and [yield] translation by accelerating the deployment of our operational excellence program and other cost reduction measures, or completing the restructuring measures in France and the US and further improving LIP-based paper performance.

SWM has a lot of work to do and is carrying out this work with increasing excellence with a focus on the right areas to build new positions as plans. I remain confident that we are on a solid trajectory and will deliver earnings improvement in 2010 and even further gains in 2011 and beyond. With that, I will turn the call over to Pete to cover our financial results and outlook.

Thank you, Frederic. I will now review our results for the quarter and update our financial guidance. On slide ten, net sales as noted in our earlier financial highlights slide were flat year-over-year for the third quarter. Excluding currency impacts and the idle Malaucene, France finished tipping paper facility net sales increased 5.2% for the quarter. This is largely on the strength of full LIP sales in the North American market, coupled with good volume performance in our global-based paper business.

On slide 11 the picture of our sales volume trend is mixed for the third quarter with continued growth and total SWM tobacco paper sales volume, but a decline in high value product sales volume due to the RTL customer inventory declines Frederic mentioned earlier more than offsetting LIP unit sales volume growth of 71%. The year-to-date growth rate for high value products remains slightly positive, but is impacted by both the second and third quarters of 2010 having lower RTL sales volume than the comparative prior year quarters.

RTL sales volume did increase 8% sequentially from the second to third quarters of 2010. Among cigarette companies of the four major multinational producers, two reported increases and two reported decreases of 3% to 4% each in third quarter shipments versus the prior year. The China market has grown 5% during the first half of 2010 versus the prior year.

On slide 12, after removing losses from all periods, coincident with reflecting the Malaucene facility as a discontinued operation, SWM has increased operating profit by $4.3 million, or 5% through the first nine months of 2010, reflecting cost reduction efforts including the benefit of restructuring actions and despite inflationary increases primarily from higher wood pulp prices, the unfavorable absorption of fixed cost due to decreased RTL production volume and unfavorable foreign currency exchange rate impacts.

Year-over-year operating profit from continuing operations declined by $6.4 million during the third quarter, essentially due to increased inflation including higher wood pulp costs. Improvement in cost performance benefited year-over-year operating profit comparisons by $8.8 million for the third quarter, with the majority of this gain in our French business segment. However, these improvements were offset by a $6.1 million unfavorable impact largely from RTL production decline and an 8.5% year-over-year strengthening of the dollar relative to the euro, which caused unfavorable translation impacts of $3.3 million.

North American NBSK wood pulp prices averaged $990 per metric ton for the third quarter, unchanged from the second quarter and 35% above prior year levels. Both pulp prices and foreign currency exchange rates began to improve late in the third quarter.

On slide 13, earnings per share excluding restructuring and impairment expenses for the third quarter totaled $1.17, below the prior year quarter, but improved relative to the third quarter level of $0.93. Year-to-date EPS now stands at $3.29, even to 2009 levels despite an unfavorable $1 per share impact, one half from higher pulp prices and one half from share count dilution.

During the third quarter, for the first time this year our China paper joint venture, CTM, generated net income essentially flat to the prior year, as we first achieved profitable operations during the third quarter of 2009. On slide 14, adjusted EBITDA from continuing operations totaled $154.7 million for the last 12 months.

On slide 15, due to continued strong generation of cash flow from continuing operations that totaled $124.6 million through the first nine months of 2010, caused by higher levels of net income and a $20.8 million reduction in working capital, we continue to hold positive cash net of debt totaling $28.1 million at the end of September 2010. The level of net cash declined $17 million during the third quarter.

Borrowing activity on our credit facilities exists primarily to manage certain foreign currency balance sheet exposures. We expect to further reduce cash on hand during the balance of 2010 as we continue in our -- continue our significant strategic investments in the Philippines and Europe.

On slide 16, we continue to expect 2010 and now 2011 cash needs to be significant, ranging from $250 million to $305 million over the two-year period. Roughly one half of this amount is due to the RTL and LIP strategic investments, with the balance largely due to cash severance payments, expected equity investments for our Chinese joint venture and already completed share buybacks totaling $18 million that were completed during the third quarter at prices below $49 per share.

We continue to tightly control maintenance capital spending. Cash needs include estimates for potential requirements, notably an equity investment for an RTL joint venture in China which is dependent upon timing of an agreement to proceed. We expect to be able to readily manage opportunistic cash requirements such as for a China RTL JV or other purposes should they arise.

On slide 17, our 12 month return on invested capital remains at a historic high level of 16.7%, reflecting the sustained shift in our business to higher profitability products that leverage returns on our existing asset base, especially the growth of LIP cigarette paper.

On slide 18, with our third quarter performance we remain on pace to achieve our 2010 earnings guidance of at least $4.25 per share, excluding restructuring and impairment expenses. Although recent trends in both pulp prices and foreign currency relationships are improving, we traditionally incur production downtime and reduced sales volumes during the fourth quarter related to yearend holidays. Otherwise our current business outlook remains relatively stable as we look forward into 2011.

Given that the process of negotiating customer agreements for LIP supply in Europe is still ongoing and a significant impact, the advent of EU LIP demand is expected to have on SWM results we are not certain enough at this time to provide specific numeric earnings guidance for 2011. We reiterate our confidence in the present strategy of SWM to generate a sustained increase in earnings in the coming years as we bring to fruition our strategic investments in high value LIP and RTL products, specifically for EU LIP. We anticipate demand will commence during the second half of 2011 as the major cigarette manufacturers prepare for compliance with EU LIP regulations that are expected to be effective no later than early 2012.

The level of benefit to SWM's future earnings remains dependent upon actual sales volume and product pricing that is yet to be determined, but should become clearer in the coming months. As an order of magnitude estimate, if SWM's existing share of the larger EU cigarette paper market converts to higher value LIP product, this would result in incremental annual pretax earnings of more than $40 million, which is consistent with our current experience in the smaller North American market. That concludes our remarks. Wes, please open the line for questions.

(Operator Instructions)

Our first question comes from Bill Chappell of SunTrust.

Good morning.

Good morning, Bill.

I guess, first, just digging into the RTL shift, I had thought there was some shift from the second quarter to third quarter, but it sounds like it is being pushed even further to the fourth quarter, so I am just trying to understand being at a tolling operation, are you manufacturing and then just holding onto inventory, or is this just timing?

Good morning, Bill. This is Frederic. I think it is purely timing. What we had shared in August was that there was an inventory reduction taken by a few of our customers under short notice, but forced us to anticipate the shutdown of one of our machines which we had already planned to shut down during the summer to deal with vacation personnel issues and that we anticipated this shutdown, but that we will expect it to restart that machine in September, which is actually what we did.

And we fully expect to have a very solid fourth quarter. If you look at the comparative to last year's first, third quarter, that was a period of time last year where we produced record levels of RTL and shipped with all those RTL products in the third quarter. We are now year-to-date a little bit behind the pace of last year, but we expect in the fourth quarter to make that up and more and deliver some mid single-digit growth for the full year 2010, which was our objective stated at the beginning of the year, so purely timing.

And does that affect the normalized annual plant shutdowns that you have in the fourth quarter, or are those different plants?

Yes. For that site there is no plant shutdown at the -- in the fourth quarter.

Okay. And then second, just as we are giving more granularity on the European contracts, can you tell us what gives you confidence that things are going to be wrapped up by yearend, and in terms of the expectations are the negotiations kind of matching that $40 million incremental number, or how should we be looking at that? Is that kind of a base case type number?

Well, certainly the negotiations have accelerated over the past few months and that what we mentioned earlier in the year is that the timing of clarifying the test standard by the European Union level, which is now expected to be a matter of weeks was an important factor in for our customers in terms of being prepared to firm up their commitments in terms of a source of supply. And so the third quarter, the test standards were voted by the member states of the EU and we expect, based on the progress reported to date, we expect the final test standards to be published within the next few weeks.

And concomitant to that we have seen a lot more activity in our discussions with customers and looking at the expected enforcement date, which is late 2011, early 2012, so then you go back now that we have 12 months from now, this is a time for customers to secure supplies and firm up supply agreements. So based on current activity in discussions with customers to date, based on a schedule which is now becoming clearer for all parties, this reinforces our confidence that we will see supply agreements being firmed up in the coming months. What we are signaling is that we expect further supply agreements to be signed for the end of the year and only all supply agreements by early 2011.

And changing gears, when I look at pulp, and certainly it hasn't dropped so much, but it is going in the right direction, are there any concerns about getting the annualized pricing January 1 to offset the inflation we have seen this year?

Not really. I think as we explained in the past with the [formulaic] setup in the contracts, what will be unfavorable to SWM would be a sudden drop in pulp price in the coming -- in the fourth quarter, which is not what we are seeing, so it remain at high level which will then benefit us in terms of how much of this is passed through into the 2011 pricing formula. So I would say at this stage, no, there is no need, no reason to be concerned. Now what is not clear to us is what -- whether the softening in pricing that we have seen in the past few weeks and couple of months, whether this one will accelerate in 2011 or in fact would we remain at a fairly historically high level in pulp pricing throughout 2011.

Sure. And then just a couple housekeeping, it looks like you repurchased 370,000 shares in the quarter for maybe $20 million. Does that sound right, and I guess is that a change in terms of -- I know you had committed a lot of cash near-term towards the CapEx. Is there a change in use or will there be a change in kind of use of cash going forward?

No. That was opportunistic that we purchased 365,000 shares for $17.6 million during the month of August and it was to take advantage of cash that we had on hand, primarily from better than expected reduction in working capital, so that freed up additional cash. Obviously we have been reporting now for several quarters that we are sitting on a significant amount of net cash. When we saw the price we stepped in and purchased, so it was really one-off and opportunistic.

Okay, and then really last one just because I saw the picture of the Philippines facility with a lot of water. Was there any impact from the typhoon there and then any impact, actual impact from the strikes in France during the quarter?

So there was no impact from the typhoon in the Philippines. This is a rainy season right now and so every day you have some rain showers. As you can see from this picture if you compare to the prior quarter earnings call, we have made significant progress with the building structure and now starting to install the production equipment, so we are certainly tracking along very well.

On your second question on the strikes in France, unfortunately we were affected throughout the summer, I would say, and as recently as earlier in the week with some downtime on our -- at our mills. However, I would say that we have seen also, as we reported in our prepared remarks, some improved efficiencies from our operations, particularly in France, so I would say that it had a negative effect -- we could have a better certainly result without the strikes, but we were able to mitigate both this downtime through productivity and strong efficiencies for the balance of the quarter.

Got it. Thank you.

You're welcome.

Your next question comes from Rick Skidmore of Goldman Sachs.

Good morning. Pete, can you just reconcile if we look at the income statements, it looks like you have net income of $18.2 million and 18 million shares. Just if I do the math I am coming up a couple of pennies short from where, or above where you are talking. Is there something else, some other expense in there to get to your $1.17?

No. The -- yes, good morning, Rick. The best way to do that is to look at page seven of the Q that we filed, and we have had a couple of other people ask about that same $0.03 and where is it. It has to do with the two-part EPS calculation, so page seven of the Q breaks down the $18.2 million into how much is available under that financial accounting standard is available for common shareholders, which is $17.7 million, so that $500,000 is where you are missing $0.03.

Okay. Thank you.

And then you will be able to get to where you need to be.

Okay, great. Thanks. And just coming back to the EU LIP, are -- as you look at the negotiations that you are currently having, are there any of the big international customers that you are not negotiating with currently for EU LIP?

Good morning, Rick. No, we are negotiating with the big and the small customers in Europe. We are negotiating with everybody.

Okay. And are you seeing that your customers, as you negotiate, are you seeing that your customers are indicating that they have other options other than Schweitzer?

Well, yes. I think we have been clear in the past that there are other alternatives presented to in the market for producing papers for LIP application so, yes, I think we -- in our discussions with customers we obviously, yes, we shared with you in the past we -- our approach is to combine an offer for direct supply of our proprietary LIP product, but also discussions around licensing for them to have the ability to buy alternative sources with the confidence there will be no risk of infringement with our intellectual property. So, yes, in discussion with customers it is not just us alone. Some of our competitors are also engaged in discussions.

Okay. In discussions with you or in discussions with those -- so that you have competition in LIP?

I will -- not -- I don't want to elaborate too much in this, other than to say that we -- what we stated is we have a dialogue around licensing, both with our customers, our major customers and our competitors.

Okay.

We have exchanges our running with both constituents.

Okay. Say, just maybe a couple of other ones on this topic for -- do your negotiations reflect kind of your current market share in Europe, or something different such that are you going to have, as you think about this new capacity that you are building, you are essentially building for 50% of the market? If I recall correctly, current market share is about a third. In the negotiations do you see that you are going to have underutilized capacity as you go forward, or do you think that you will be able to utilize that capacity?

Well, I think it is way too early to answer precisely this question, but I think we restate our confidence that we -- our objective and is sell out the planned capacity that we have announced earlier in the year, which announced with about 50% of the EU market. And there is no reason for us at this stage to think that this is not within reach.

Okay. And then just last question, coming back to the US and Philip Morris USA, any update that you can provide on what you had talked about earlier in the year about them looking to a second source of supply, and initially it was a relatively small amount of volume. Are you seeing anything change in that relationship?

I think we continue to monitor both the market and order patterns and have noted no material changes other than an increase in BCP orders throughout the year. And the order pattern remains very strong at the moment, so no more that I can elaborate on this question other than we are reflected with our reserves and the US segment we have seen very strong demand for LIP products, including the product we supply to Philip Morris USA.

Okay. And, I'm sorry, just one last question on the patent litigation that you filed. If I understand correctly, you have perhaps amended that litigation to include another patent and essentially the clock has been reset. Can you just clarify if that is the case?

Yes. We -- you are absolutely right. We have added claims for a violation of a second patent to those stated in the original complaint over the summer and that is not necessarily a reset of the timing. The series following -- the process is going. It is on pace, which as we always stated, this is to be measured in years and not weeks or months, but there has been no delay due to this amendment. It is just that we felt that could make our case stronger by adding claims and adding a second patent to the original complaint.

Thank you.

You're welcome.

(Operator Instructions)

Good morning.

Good morning.

Good morning, Ann.

Going back to negotiations with customers in Europe, are you finding conversations are delayed because customers are waiting for standards and timelines, or are there discussions centering around, more around price, or can you give us any other insight?

Well, for -- again, the negotiations, the pace has accelerated throughout the third quarter, getting into now the fourth quarter and we relate that to the schedule for implementation becoming clearer and also the test standards being nearly near final and to be published within weeks. Now, the crux of the discussions obviously revolve around pricing and market share expectations and I would say that is 40% of our discussions today with customers.

Okay, great. Switching over to Brazil, can you just walk through that market and what I should expect long-term for margins in Brazil?

I think on the Brazil segment itself, because it primarily reflects the more commodity-based paper, our experience that we have been seeing this year which has been mostly influenced by changes in pulp prices will be the experience that we will continue to see. So the current level of profitability in both absolute terms and in return on sales terms probably won't change that much going forward.

And then regarding the US, any update on the money in dispute in the account with Philip Morris USA?

Yes. As Frederic mentioned earlier, the amount grow with each quarter because as we invoice each month, PM USA disputes that amount each month, so that is why each quarter you see a larger amount disclosed. In terms of the resolution of that dispute or where we go in terms of our product supply to PM USA, as Frederic mentioned earlier, there is no change. We continue to supply the vast majority of their product, if not all of their product and foresee that continuing. So likely it is going to continue that the amounts continue to be disputed until any future agreement or change in supply would ever occur.

Okay, great. And then, finally, you referenced price negotiations on base paper. Have you completed those or are you still in discussions for 2011?

Still in -- yes, there is a multiple number of accounts where this occurs, but there is in particular one larger multinational with a multiyear cycle that is being negotiated this fall. Those are in progress.

Okay, great. Thank you all.

Okay.

(Operator Instructions)

At this time I am showing no further questions. I will turn the conference back to you, Frederic Villoutreix, for any closing remarks.

Well, thank you, Wes. Thank you, everyone. Have a great day.

And, ladies and gentlemen, that concludes SWM's third quarter 2010 earnings conference call. We appreciate your time. You may now disconnect.